The (Ir)relevance of Unit Economics

The (Ir)relevance of Unit Economics

How’s your new business coming along? Good? Why do you say that?

Probably because as rational human beings, we intuitively use ratios to measure things. Businesses tend to operate the same way.

You look at your numbers and see that your company is adding 2x new clients every month. Would you think your company is doing well? Your first thought would probably be: yes. But the truth is that while it might look good at first glance, you won’t have the right answer until you look deeper. Your unit economics matter, and if they are adverse, it might just kill your company.

At this stage, what’s more important than the total revenue is your unit economics, which is essentially the revenue and costs associated with each unit you sell.

When you are selling one more thing of what you make – are you making money on it?

In this post, I will be discussing the importance of unit economics, especially for seed-funded companies, both B2B and B2C.

Case Study of a B2C Mobile Gaming Company

Let’s pick up the case study of a B2C mobile gaming company I worked with. A company in that industry will calculate its revenue in the following manner:

It will have X number of Daily Average Users (DAUs), out of which only a few will pay. The company now needs to look at the total money collected over this period.

In this situation, let’s say the company has a total of 1,000 users, and collected $100. So the unit revenue (average revenue per daily average user — ARPDAU) is 10 cents per user per day.

The company, as a service provider, now computes its costs, which are generally divided into two parts: fixed and variable. Variable costs are typically: server cost (partially fixed but some variable), bandwidth, and advertising costs to acquire users.

Assume the advertising cost is $2 per thousand impressions (CPM). On an average, how many impressions does the company pay for before it gets a customer? Let’s assume it to be 1,000 impressions.

Thus, its cost per install (CPI, i.e. the cost of customer acquisition) is $2.

To be profitable to the company, an average user has to last at least 20 days. (20 days * 10 cents / day = $2 revenue) If an average user goes away in LESS than 20 days, the company will never make money.

What happens in B2B?

The situation is completely different in the case of seed-funded B2B companies, because their fundamentals are different. How?

  1. To get any accurate statistical average of a data set, the data set needs to be big (“n” has to be large), and at the seed stage, that is near impossible for a B2B company. At the seed stage, a seed-funded B2B company that has good “traction” will have 4-5 customers, even if that!
  2. A B2B company also has much longer sales cycles – i.e. prospects today become clients next year, which means the costs of acquisition are higher and add up for a longer period of time, for each client. This makes averaging costs over a data set really difficult.

So for B2B entrepreneurs, any unit economics figures derived would have serious validation issues.

Moments like these have made me realize that a lot of startup advice dispensed about is implicitly aimed for consumer startups. While hundreds of people are talking about unit economics for startups, nowhere did I find a distinction between B2B and B2C companies. This is perhaps explained by the sheer volume of consumer startups – AngelList actually shows over four startups tagged “consumer” for every one startup tagged “B2B” or “enterprise.”

However, where unit economics is concerned, I’d like to dispense this myth for B2B startups. Don’t waste precious resources getting those figures right. At this stage, even your investor is more concerned whether you’ve built something that people will pay for. Unit economics gain importance after a Series A round.

If you’d like me to deep-dive into your numbers, I’d be happy to provide a free consultation. Please reach out to me via email at or even an inMail works.

Source for cover image here. I have talked more about the “magic number” that startups need to get right in an earlier article here.

Funding Downturn And What It Means For Entrepreneurs

Last night, I was sifting through my inbox, when I noticed a pattern.

Mail 5: CEO of a $1m seed funded company informing me that they’re shutting down shop since neither the Series A nor the bridge loan came through.

Mail 67: Another seed-funded company planning to wrap up operations at the end of the month.

Mail 96: A B2C startup with 1M active users but with no clear path to monetization. Unsuccessful in raising any money. Hoping for an aquihire, but planning for a shutdown.

Mail 128: CEO of a well-funded seed-stage company (high single digit, in millions) had to sell because they’d run out of money. It was an acquihire – so the team stayed intact, the product wasn’t shut down. They consider themselves lucky.

Should entrepreneurs be worried?

According to CB Insights’ annual report, the first quarter of 2016 saw the lowest number of deals worldwide in nearly three years, down by 15% from Q4 2015. Interestingly,  according to another report, Series A deals made up 48% of Q1 transactions, a level not seen in over a year. However, total dollars invested were the lowest since Q3 of 2014 for the U.S.. Even Asian markets have taken a hit, with funding down 32% (in dollars).

Yes, entrepreneurs should be worried.

VCs have less funds available. (No exits lately!) If they have a portfolio of ten companies, they’re analyzing them, and backing the winners, instead of equitably distributing the available funds between all of them. Think of a mother picking favorites when there are five kids to feed, and food only enough for two of them.

What can entrepreneurs do?

Raising funds is going to get even more difficult. Call it a correction or a normalization, the bottom line is that there are going to be more unicorpses than unicorns this year.

Here are some tips for early stage startups:

  1. If you are raising funds: Aspire to raise a larger amount than planned, since the next opportunity for fundraising may not come soon. This strategy is different than the past strategy of raising a very small pre-seed or seed round, getting traction, and then going for larger rounds.

Because, well, you will probably not be around for that round.

  1. If you are not or cannot raise funds: Cut down your expenses.Ruthlessly prioritize.

If you are still building your MVP, don’t invest in a sales and marketing team just yet, because they don’t have anything to sell.

If your product is ready, see where you can scale back on the R&D spend, and put all that you have in your sales team. Lean in. You are guaranteed to NOT get traction if you don’t invest in sales, so why not risk it?

  1. Track your KPIs. If they are looking good, you’ll survive. Focus on customer validation and your monetization path. Your metrics should prove two things:
  1. You’re actually solving a problem
  2. The problem is so significant that users spend a good chunk of time on your product, and not just two minutes a day.

Sad fact: If you are running out of money in 2016, and KPIs don’t look good – you’re in trouble.

  1. Approach your current investors, have a heart-to-heart. Figure out if you’re the favorite child, or the one who’s going to be left to die. If you think you might need money, discuss the possibility of bridge financing before you go for the next round.

I know the situation is difficult, but in the long run, this is a good change. Evolution is at work. The strong will survive. This will make companies more resilient, and will make sure the more deserving ideas get funded, and competition gets thinned. The capital to go around is limited, and with less startups clamouring for their attention, the money would be spent more judiciously.

However, if you’re the ones left in the cold…stop worrying.

Welcome to the graduation ceremony of the School of Hard Knocks. Learn from your mistakes, prepare for the next cycle, and come back with better ideas.

And if you need a sounding board for those ideas, I’m available on LinkedIn or email at

Good luck!